VALUE ADDED FROM VENTURE CAPITAL INVESTORS: WHAT IS IT AND HOW DOES IT GET INTO THE VENTURE?

Transcription

1 VALUE ADDED FROM VENTURE CAPITAL INVESTORS: WHAT IS IT AND HOW DOES IT GET INTO THE VENTURE? Dr. Andreas R. Boué IPO Beteiligungs-Management AG, Argentinierstraße 42, 1040 Vienna, Austria Tel , ABSTRACT Although some studies deal with non-monetary services (hereafter value added ) of venture capital companies, very little is known about the value adding process and its improvement. Most of the existing studies are based on a quantitative methodology, resulting in several lists and overlapping categorizations of different value adding activities. These studies were often not theory based. In order to create a model of the value adding process of venture capital companies a qualitative methodology was used to conduct 20 in-depth interviews with venture capital experts and entrepreneurs who were raising venture capital at the time of the interview. The result of these interviews is a model that (i) offers a widely non-overlapping categorization of value adding activities; (ii) sharpens the view of possible fields of application for value adding activities; (iii) takes into account the dependencies between the expertise of the entrepreneur on the one hand, and different kinds of investors, the investment phase and the industry sector of the venture on the other; and (iv) distinguishes the transportation vehicles of value added from the value added activity itself. Especially through this last point, a focused view on important sub-processes for the creation of value adding is possible. This again is regarded as crucial for further research on improvements of value adding through venture capital investors. INTRODUCTION AND PROBLEM STATEMENT A vast number of studies shows that with so called value added, venture capital investors can contribute significantly to the successful development of the companies in which they invest (hereafter portfolio companies ). The often stated problem is that venture capital investors provide either no value added at all, not enough of it, or the wrong kind (e.g. Kulicke & Wupperfeld 1996:185f.). Therefore, it is no surprise that entrepreneurs of venture capital backed companies are often unsatisfied with their investors contribution (e.g. Rosenstein et al. 1989, 1990, 1993) a situation which may interfere significantly the otherwise positive relationship between investor and investee. In other words: there exists an appreciable potential to improve the support of venture capital investors. But how?

2 Before one can answer this question one has to know what value added in a venture capital context actually means. An overview of the literature, which is provided in the next chapter, shows that there is no commonly agreed definition of value added. Furthermore, so far nobody has actually been able to provide a non-overlapping categorization of the vast amount of single value added services and activities identified. What is value added? Where and how does it affect the performance of a venture and what does value added depend of? And does one kind of value added activity equal another or are there more or less important value added services and activities? It is crucial to answer these questions in order to improve the support ventures receive from venture capital investors. This support can in return only be improved when we know more about the mechanisms of implementing value added in the venture. What kinds of vehicles exist to transport a certain value added from the investor to the place where it is needed, namely the venture. Knowledge about these mechanisms is required before we can start to research possibilities to improve them. As will be seen, the existing body of literature in this field is often contradictory and not theory based. This study aims to deliver a model that visualizes the process of value added creation in a venture capital context. Particularly, it is hoped to enrich the existing body of literature with (i) a widely non-overlapping categorization of value adding activities; (ii) a consistent set of variables that influence value added; (iii) a hierarchy of value added services and activities; and finally (iv) the introduction of already mentioned value added vehicles. The benefit for academic research is firstly to understand the value adding process within a venture capital context, and secondly to allow research to concentrate on a single aspect of the whole process. This article proceeds as follows: The next chapter gives an overview of English and German literature on value added in a venture capital context. The aim is to learn as much as possible from the existent body of knowledge but also to detect its limitations. After that, the qualitative methodology used for this research will be explained. Since this is an exploratory study the theoretical model used results from the empirical research and is not its starting point. Therefore, the introduction of the model will be part of the results chapter, which will finally be followed by several recommendations for further research.

3 STATE OF THE ART: VALUE ADDED IN THE CONTEXT OF VENTURE CAPITAL INVESTMENTS Parties to a Venture Capital Investment The two main parties involved in a venture capital financing transaction are the entrepreneur (1) and the investor (2). The investor buys a share of the entrepreneurs venture with the aim of selling it in the future with a profit. In order to increase the venture s value the investor provides besides money services to the entrepreneur and his / her venture. This means that there is a relationship between the two which goes beyond the purely financial transaction. This dyad (3) carries the value added Entrepreneur Venture-Capital- Investor Figure 1 Parties to a venture capital investment Value added and entrepreneur Several studies have been carried out on the position of entrepreneurs, most of which focus neither on a specific industry sector nor on a specific investment phase. This means in turn that researchers have apparently not seen the need to consider the different points of departure or starting conditions of entrepreneurs, which could explain the different results of their studies (see table 2). Venture capital associations like the European Venture Private Equity and Venture Capital Associations (EVCA) normally use three different characteristics to categorize venture capital activity: industry sector of the venture, stage of investment, and country where the investment takes place. Each of these categories marks a significantly different point of departure for an entrepreneur. 1 Cumming et al. (2005) show that the kind and extent of value added provided by venture capitalists influences investors to donate money in venture capital funds. They found that venture capital investors who provide value added in finance, strategy and management will receive significantly more funding than those that provide value added in marketing and administration. This last dimension, i.e. influence of the kind of value added on the relationship of venture capitalists and fund investors (4), will not be examined here.

4 Regarding the industry sector, EVCA distinguishes 17 different industry sectors (EVCA 2004:295f.). To reduce complexity these 17 sectors are bundled here into four sectors: (i) communication; (ii) computer; (iii) medicine, health and biotechnology; and (iv) production of industrial- and consumer goods. In 2003, these four bundles covered 84,3% of all invested funds in Austria and 57,5% in Germany and in terms of recipient companies, 75,4% (Austria) and 73,5% (Germany; EVCA 2003). Table 1 gives a comprehensive overview of value added literature by industrial sector and stage of investment. To highlight just one finding here: Timmons & Bygrave (1986) determined that there is a positive influence of sector experience on the quality of value added. The stage of investment follows the venture capital investment cycle (Stedler 1987). He distinguishes three main phases: early, expansion, and divestment stage. Churchill & Lewis (1983), Flynn (1991), Engel & Hofacker (2001) as well as EVCA (2002) show that the needs of entrepreneurs, their aims and their management style changes with the current stage in the life cycle of a company. It seems obvious that companies in they early stage have different needs than companies in their divestment stage. It also seems obvious that a biotech company, for instance, requires due to product life cycles, R&D-intensity and special market conditions different value added services than an internet company. Leitinger et al. (2000:192.) established that there is a focus on operative management support and a development of market entry strategies especially in the early stages. In expansion stages the focus is on general strategy, especially concerning internationalization of business activities and follow up financing rounds (edb.:196). Rosenstein et al. (1993) detects in early stages a need for selection and hiring of CEO and assistance in trouble shooting. In later stages the role of a sounding board 2 becomes more important. Timmons & Bygrave (1986), Landström (1991:87), Elango et al. (1995), Sapienza et al. (1996) and Hellmann & Puri (2002) come to the conclusion that value added from venture capital companies is highest for ventures in early stages. In this context, Hellmann & Puri (2002) stress the importance of early professionalization of 2 Serving as a sounding board describes the preparedness of investors to listen to the problems, ideas and questions of entrepreneurs and to help them with words and deeds.

5 internal processes due to pressure from venture capital companies to implement certain reporting standards. Several studies research the role of venture capital companies when their portfolio companies go public (Barry et al. 1990, Lerner 1994, Brave & Gompers 1997, Wang et al. 2002). They conducted comparative studies of initial public offerings (IPO) and the post-ipo phase of companies that were venture backed with those that were not. Their results are shown in Table 1. Table 1 Value added studies by industrial sector and stage of investment Characteristics Findings Author(s) Industrial Sector Stage of Investment General Communication Experience of a venture capital investor in the industrial sector of a venture has NO influence on the quality of their value adding services. Experience of a Venture Capital Investor with the industrial sector of a venture has a POSITIVE influence on the level of quality of their value adding services. Computer Medicine, health, biotechnology Production of industrial/ consumer goods General Venture capital investors deliver a value added (in financial terms) to ventures in these industrial sectors in so far as they go public with them at the right moment, i.e. when they have reached a peak in evaluation. No influence of the investment stage on the value added by venture capitalists. The requirements of value added change with the stage of development of the venture. Sapienza (1992) Sapienza et al. (1996) Lerner (1994) Sapienza (1992) Flynn (1991), Engel & Hofacker (2001), Leitinger et al. (2000)

6 Characteristics Findings Author(s) In early stages the level of value added provided by venture capital investors is the highest. Timmons & Bygrave (1986), Hellmann & Puri (2002) The main value added in this stage is the appointment of a CEO and assistance in solving of short term crises/ problems. Rosenstein et al. (1990) The main role of a venture capital investor in this stage is that of a consultant. Freear et al. (1990) Early stage Venture capitalists invest more time and therefore create more value added in early stage ventures. Sapienza et al. (1996), Gomez-Mejia et al. (1990) Stage of Investment The need for support in early stage ventures is higher than in later stage ventures. Value added from venture capital investors in early stage ventures comprises mainly organizational and personnel development, development of controlling and management information systems, provision of contacts and networks, conduction of market analysis and marketing concepts. Wupperfeld (1996) Leitinger et al. (2000:192ff.) Early stage ventures demand mainly strategic advice and networking from their investors. EVCA (2002) The venture capitalist s serving as a sounding board plays a bigger role in expansion stages then in early stages. Rosenstein et al. (1990) Expansion stage Most significant in this stage is the development of strategic and internationalization plans, arrangements for further financing rounds, crisis management and preparation of an exit. Leitinger et al. (2000:196ff.) Especially important in this stage is focus and support, provision of credibility and status, serving as a sounding board and financial advice. EVCA (2002) Long term results of venture capital backed public listed companies are higher than those of non venture capital backed. Brav & Gompers (1997) The timing of an initial public offering is better in venture capital backed companies. Lerner (1994) Stage of investment Divestment stage Underpricing of venture capital backed companies that go public is lower and the quality of underwriters is better. Apart from that there are no measurable differences. Venture capital backed companies have a higher valuation when they go public than non venture capital backed companies. Furthermore, the post IPO performance is higher (due to the monitoring of its venture capital investors). Wang et al. (2002), Barry et al. (1990) Jain & Kini (1995) The costs associated with an IPO are lower for venture capital backed companies. The cash-in of an IPO is also higher. Megginson & Weiss (1991)

7 Value added and investor Ehrlich et al. (1994) come to the conclusion that the source of venture capital is as important as the extent of financing: The right match can yield a synergistic relationship that will propel the firm to higher levels of excellence (Ehrlich et al. 1994, 69). Similar are the results of Rosenstein (1998) and Sapienza (1996), who found that value added depends on the kind of networks and industry sector expertise of the investor. Generally, one can distinguish between informal 3 and formal venture capital (e.g. Ehrlich et al. 1994). This paper focuses on formal venture capital. Here, a distinction between venture capital from independent funds and from corporate funds is to be recommended. This distinction makes sense since the value added which is potentially available differs in nature and quality depending on the source of funding. A corporate venture capital company has e.g. a close relationship to its corporate parent, which in turn can enable the corporate venture capital investment manager to establish contact with the corporate parent more easily than a colleague from an independent venture capital company could do. This corporate parent is usually a large corporation with a leading market and / or technological position. On the other hand, independent venture capital companies are often able to provide access to important know-how faster owing to a less bureaucratic structure than a corporate venture capital company would be able to do. It is interesting to note that few researchers distinguish between value added by independent venture capital and by corporate venture capital companies respectively (one exception would be Jungwirth & Moog 2004). As already mentioned, some researchers have studied the quality of value added in relation to the particular investors characteristics. Rosenstein et al. (1993) come to the conclusion that venture capital investors are heterogenic in terms of the quality of value added they provide. The authors show that only the board members of Top 20 4 venture capital companies provide value added which has a significantly higher quality than that provided by the board members of non-venture capital companies. In contrast Sapienza (1992), who 3 A good overview of the existing literature in the field of informal venture capitalist/ business angels and the value added they provide is found in Fath (2002) and Fath (2005). 4 For a definition of the term TOP 20 see Bygrave & Stein (1990).

8 researched the same phenomenon, comes to the conclusion that there is no significant difference between the quality of value added by venture capital as opposed to nonventure capital board members regardless of whether they belong to the Top 20 investor group or not. The entrepreneur-investor-dyad The relationship between entrepreneur and investor is a fruitful area for value added research. Leitinger et al. (2000:199) establish, that the most important requirement for the functioning of cooperation between entrepreneur and venture capital investor ( ) is the acceptance of the investment manager through the management of the venture. Cable & Shane (1997:143) go even further when they conclude that a cooperative relationship between entrepreneur and investor is even more important for the positive development of a venture than the provision of money itself. This relationship is characterized by Higashide & Birley (2000) as a socially complex inter-organisational relationship. The authors argue that the relationship between the two parties increases in its social complexity and therefore becomes more and more difficult to imitate. This in turn leads to an improvement in the venture s performance. E.g. the exchange of norms among the parties leads to a rise in the performance of the venture. In particular cooperative behavior and the overall mood of the relationship between the parties influence the performance of the venture as well. The institutional platform for cooperation between entrepreneur and investor is mainly the management board, and sometimes a consultancy agreement (Freear et al. 1990, Schröder 1992:232). Rosenstein (1988) and Sapienza & Timmons (1989a, 1989b) pose the question what requirements are necessary to develop value added in the first place. In this context Barney et al. (1996) demonstrate that the success of non-financial assistance is dependent on the way the entrepreneur values assistance of this kind. The authors show, for instance, that entrepreneurs with industrial experience do not necessarily see the need for advice when they are part of a new entrepreneurial team, while they are open to suggestions when they are part of an existing team. Byers (1988), Fredriksen et al. (1990), Sapzienza et al. (1996) and Fredriksen & Isaksson (2000) tested several parameters potentially influencing the relationship be-

9 tween entrepreneur and investor, such as geographic proximity between entrepreneur and investor, the realized need for value added, the investment stage of the venture, the prior experience of the investor in the industry sector of the venture, and the venture s overall investment share in the venture capital fund. The relationship between the two parties is a time-consuming matter. Gorman & Sahlman (1989) and Fredriksen et al. (1990) show that venture capital investors devote approximately 50% of their time to monitoring their portfolio companies. This relationship between entrepreneur and investor not only takes place on the institutional level of a management board but has also informal aspects. Several authors (e.g. MacMillan et al. 1988; Ehrlich et al. 1994; Sapienza et al. 1996; Fredriksen 1991, 1992, 1997; Rosenstein et al. 1989, 1993) have researched such informal aspects, including the activity known as serving as a sounding board. In this respect Fredriksen (1997:47) sees the role of a venture capital investor as that of a devil s advocate who criticises and discusses plans and ideas before they are implemented. Sapienza et al. (1996) go further and identify the role of an investor not only as a mentor or coach who motivates and enhances self esteem, but also as that of a friend. Byers (1988) has a similar interpretation and stresses the importance of social and personal aspects of the entrepreneur-investor relationship for the creation of value added. The meaning of openness and fairness in the value added creation process is also a topic of the work of Sapienza & Timmons (1989a, 1989b) and Busenitz et al. (1997). In this context Leitinger et al. (2000:200) have enriched the discussion with a definition of problem areas which are typically found in an entrepreneur-investor relationship and have the potential to cause friction in the cooperation between parties. These problem areas relate to the time before the actual investment and thereafter. Typical problems leading to friction before the investment are e.g. intentionally inaccurate or exaggerated statements in the business plan, information asymmetry, unrealistic enterprise evaluation expectations, and a lack of trust. Typical problems that may occur after the investment takes place are a one-sided dependency of the venture on a single person, the feeling of the entrepreneur to that he or she has given away a too high share of the company, or a conflict of interest through the entrepreneur s establishment of another venture. Possible conflicts between entrepreneurs and investors are also researched by Smith & Parhankangas (2000), Parhankangas & Landström (2004) and Higashide &

10 Birley (2002). They come to the conclusion that conflicts among the two parties can also have a positive influence on the venture. Higashide & Birley (2002), for instance, point out that only conflicts on the personal level have a negative impact on the venture, whereas conflicts that result from a difference of opinion on an operational level may even improve the performance of the venture. Does Value Added actually exist? It may seem obvious that there is an influence exerted by the venture capital investor on the entrepreneur or the venture that can be positive and therefore value adding. But can this theoretical assumption actually be seen in practice? It is astonishing to see how many studies cover this question. And it is perhaps even more surprising that there is no clear agreement whether the answer to this question is a yes or a no. Table 2 gives an overview of these studies. Table 2 Do venture capital investors influence their ventures positively? YES Authors Findings Methodology Brophy (1988) At the event of an IPO, capital markets regard the existence of a venture capital investor as risk minimizing. Analysis of public listed companies (210 were venture capital backed) within a period of 7 years. Rosenstein et al. (1989, 1993) Fredriksen et al. (1990) Sapienza (1992) Board members have a positive influence on the venture. The venture capital investors among them have only a significantly higher influence when they are from a Top 20 venture capital company. Venture capital investors have a strong influence on the management of portfolio companies and enrich it, especially on a strategic level. Board members have a significantly positive influence on the venture especially the Top 20 venture capital companies mentioned by Rosenstein et al. (1993), but the others too. Questionnaire survey among 162 CEOs of portfolio companies. Questionnaire survey among 123 CEOs of Swedish venture capital backed companies. Interviews and questionnaires from entrepreneurs in 51 venture capital backed companies and their lead investors. Regression analysis of the stock quotations of venture capital backed companies in comparison with those of non-venture capital backed companies.

11 YES Authors Findings Methodology Jain & Kini (1995) Sales and staff of venture capital backed companies grow faster than those of other companies. Analysis of stock quotations of 136 venture capital backed companies in the USA and the development of their sales and number of employees. EVCA (1996) Venture capital backed companies show a growth in staff numbers of 15% between 1991 and In the control group staff grew by 2%. Control group analysis of 500 venture capital backed companies in the EU using Financial Times-Extel Top 500 European Companies Index. Brav & Gompers (1997) Venture capital backed companies underperform less on stock exchanges than other companies that went public recently. Analysis of the development of stock quotations of 934 venture capital backed companies with non venture capital backed companies within a period of 20 (with venture capital) and 17 (without venture capital) years. Schefczyk & Gerpott (1998) Venture capitalists are mainly financially involved. Nevertheless there is some evidence that the consultancy work of the investor does create value. Questionnair survey among 12 German venture capital companies with 103 portfolio companies. Lerner (1999) Companies that received public subsidies grew three to four times faster than others. They grew even faster when they had received venture capital before. Control group analysis of companies that received funding via the US Small Business Innovation Research Programmes between 1985 and Manigart & Hyfte (1999) Venture capital backed companies show no significantly higher growth of staff but stronger growth of assets and cash flow. Conrol group analysis of 187 Belgium venture capital backed companies. Engel & Keilbach (2002), Engel (2002, 2003) Venture capital backed companies grow faster in terms of staff and sales than their non venture capital backed counterparts. Control group analysis of 142 venture capital backed companies and non venture capital backed companies from the ZEW (= Zentrum für Europäische Wirtschaftsforschung) Foundation Panel. EVCA (2005) Venture capital backed companies had a growth of staff of 5,4% between 2000 and Staff of the control group grew by 0,7%. Data from EVCA and national venture capital associations for total employment effects. Survey of private equity and venture capital funds (198 interviews). YES & NO Fredriksen et al. (1992, 1997) Venture capital investors have a positive non-economic effect. An economic effect could not be detected. Regression and cluster analysis of 34 out of the 59 companies used by Fredriksen et al. (1991).

12 Authors Findings Methodology NO Cherin & Hergert (1988) The financial performance of venture capital backed companies is not better than those of other companies. Analysis of stock quotations and P&L-Data over two years based on Data from Venture Economics and IDD Data Service. MacMillan et al. (1988) The differences in performance among companies with different levels of involvement of venture capital investors are not significant. Questionnaire survey of 350 venture capital companies. Fredriksen et al. (1991) Venture capital investors have no significant influence on the development of their portfolio companies (note different results of Fredriksen et al. 1990) Same databasis as Fredriksen et al. (1990). Analysis of balance sheet (e.g. equity ratio, liquidity, growth indicators, sales numbers) and other static values. Barney et al. (1996) Non-monetary assistance of venture capital companies does not influence a venture s performance. Questionnaire survey among 837 companies which received first round financing from venture capital investors. Deakins et al. (1999) Influence of management board members from venture capital investors has only a subtle character. Triangular study of 45 portfolio companies. Bürgel et al. (2000) There is no significant relationship between venture capital funding and growth in staff and sales. Interview of 600 German and British high tech companies of which 10% were venture capital backed. Wang et al. (2002) Venture capital investors play no significant role in a venture s preand post-ipo phase. Though the quality of underwriters is better and shares are less under priced, the mid and long term operational performance of venture capital backed companies is even worse than those not backed by venture capital. Analysis of return on sales and return on assets of 92 venture capital backed and public listed companies in Singapore and their non-venture capital backed counterparts from 1987 to November Bottazi & da Rin (2002) Venture capital backed companies show no higher growth in terms of sales and staff than others. Control group analysis based on interviews with public listed companies in Europe. Busenitz et al. (2004) Information supplied by venture capital investors does not result in higher success rates in their portfolio companies. Two questionnaire surveys among 183 companies at a 10-years-interval. There is a pattern in the relationship between the methodology and the results of the studies shown in Table 2. Researchers who analysed stock quotations or similar data and financial ratios often came to the conclusion that there is no value added by venture capital investors. By contrast, researchers who interviewed entrepreneurs or investors and asked for their (subjective) opinion generally came to the opposite conclusion. This observation can be well illustrated when reading the contradictory re-

13 sults of the studies by Östein Fredriksen. Having interviewed 123 Swedish venture capital investors, Fredriksen et al. (1990) concluded that venture capital investors do support their portfolio companies with a variety of value added measures, such as access to important networks. A year later, Fredriksen et al. (1991) came to the opposite conclusion: that there is no significant value added by venture capital investors. In the later study, the authors investigated the identical group of 123 portfolio companies, but instead of examining the subjective opinions of individuals, they analysed the financial ratios of balance sheet information. A kind of combination of both results was achieved in Fredriksen et al. (1992), which analysed the same database a third time. Their conclusion was that there is indeed a non-economic value added but no measurable economic one. This finding was taken further a couple of years later when Fredriksen et al. (1997) defined economic value added in terms of growth in sales and staff, status quo of liquidity, etc. with non-economic value added being characterized by the motivation and work situation of management, network of contacts etc. One could argue that an improvement of the internal or external context of a company (e.g. higher motivation of managers or better network) should lead sooner or later to better performance of the company. The reason for the (sometimes) failed attempt to measure value added economically could result from the missing longterm perspective in the research parameters. In this work, where a strongly constructivistic perspective is taken, the conviction of entrepreneurs / investors that there IS value added is accepted as sufficent evidence of its existence. Value Adding Activities The studies mentioned in Table 2 only answered the question whether or not there is something like value added by venture capital companies. But there are a number of other works that have taken the existence of value added for granted and concentrated instead on the concrete outcome of such value added. Table 3 gives an overview of studies dealing with the characteristics and meaning of value added.

14 Table 3 Characteristics and meaning of value added Author(s) MacMillan et al. (1988) Gorman & Sahlman (1989) Rosenstein et al. (1989) Sapienza & Timmons (1989a) Barry et al. (1990) Fredriksen et al. (1990) Megginson & Weiss (1991) Rosenstein et al. (1993) Ehrlich et al. (1994) Lerner (1994) Jain & Kini (1995) Elango et al. (1995) Sapienza et al. (1996) Key findings The most important value adding activities are (in order of importance): serving as a sounding board, assistance in acquiring additional equity, interface functionality to the investors, monitoring of financial development, monitoring of general business operations, and assistance in acquiring additional loans. The most important value adding activities are support of acquisition of additional funding, help with strategic planning and recruitment of management. Generally, companies with a supervisory board do not develop better than those that have none. But they do provide value added: monitoring of financial performance, serving as a sounding board, and recruitment / replacement of managing directors. Positive influence: open and fair behaviour of venture capital investor. Negative influence: differences in expectation of the two parties. The most important value adding roles and activities are (in order of importance): serving as a sounding board, advisor, coach / mentor, finance, friend and facilitating networking. The monitoring of venture capital investors is appreciated by capital markets and leads to a lower under pricing of new shares and better underwriters. Value added from venture capital investors is important and sought-after to supplement the skills of the management of portfolio companies. Activities take place especially on a strategic level and influence the management in issues like business development and general definition of goals. Venture capital funding leads to a reduction of IPO costs and a maximisation of cash income. High expectations of entrepreneurs could not be met. The most important value adding activities are (in order of appearance): serving as a sounding board, interface functionality to the investors, monitoring of general business operations, monitoring of financial development, recruitment or replacement of management, and assistance in solving short term crises or problems. The most important value adding activities (in order of appearance): interface functionality to the investors, assistance in acquiring additional equity, monitoring of financial development, serving as a sounding board, monitoring of general business operations, and help in the formulating business strategies. Venture capital backed companies are better able to time their initial public offering. Monitoring by venture capital investors leads to a higher enterprise evaluation in the event of an IPO and a better post-ipo performance. The earlier the investment stage the greater the effort to create value added. Big venture capital companies support their portfolio companies with less value added than middle sized ones. (i) There is no correlation between the need of a company for value added and the kind of value added the company receives. (ii) There is a correlation between the investment stage and value added: venture capital investors spend more time with early stage companies and provide more value added to companies in these early stages than in later stages. (iii) There is a positive correlation between the level of the investor s industry sector expertise and value added. This type of value added does not exist when the investor has only expertise with the venture capital business. (vi) There is no correlation between the geographic distance between the investor and entrepreneur and value added.

15 Author(s) Hellmann & Puri (2002) EVCA (2002) Key findings Venture capital investors help to establish an internal organisational structure. Benefits are found especially in the recruitment process, the development of human resources, and implementation of stock option programmes. Companies in seed- and start up phases regard strategy and networking as the most important value added. Companies in expansion phases regard focus and support and the provision of credibility as most important. The following list gives an overview of all value adding activities by venture capital investors mentioned in above listed studies: 1. Participation in the definition of a business strategy 2. Assistance in establishing an organizational structure 3. Assistance in establishing internal processes in the company 4. Monitoring / Feedback regarding business activities 5. Advice with respect to internationalization 6. Advice on expansion 7. Participation in the development of products and services 8. Participation / advice with regard to marketing and sales strategy 9. Assistance in budgeting / business planning 10. Monitoring / feedback concerning financial development 11. Assistance in acquiring additional equity 12. Assistance in acquiring additional debt 13. Assistance in obtaining subsidies 14. Interface functionality to a group of investors 15. Assistance in hiring general staff 16. Assistance in hiring management 17. Assistance in hiring technical staff 18. Assistance in negotiating employment contracts 19. Motivation of personnel 20. Acquisition of customers / assistance in sales 21. Acquisition of key accounts 22. Acquisition of sales partners 23. Advice in choosing suppliers and equipment 24. Assistance in solving of crises and problems of daily business 25. Contact to portfolio companies of the investor 26. Contact to technology leader / R&D partner 27. Contact or investment bank / international financial know how 28. Contact to press 29. Contact to lawyers / consultants 30. Image transfer from investor to entrepreneur / venture 31. Image transfer from corporate venture capital parent to entrepreneur / venture 32. Investor as friend 33. Investor as mentor or coach Several researchers have tried to categorize these value adding activities and roles of venture capital investors (e.g. Sapienza 1989a, 1989b; Brinkrolf 2002; Cumming et al. 2005). All of these categorizations have the disadvantage that they do not

16 clearly differentiate one category from another one, i.e. the corresponding value adding activities can often be pigeonholed into more than one category. Thus, Sapienza (1989a) differentiates between (i) strategic value added, (ii) social or supportive value added, and (iii) networking value added. Where would the value adding activity assistance in hiring management, i.e. number 16 in above list, best fit in? It is conceivable that the manager hired would be a member of the investor s network, which would be (iii) networking value added. But since a CEO or other important members of management also have a strategic dimension to a company, the value added would be (i) strategic value added. The Sapienza (1989a) categorizations therefore seem to be too vague and overlap. Brinkrolf (2002) responded to this problem by introducing two additional categories: (i) strategy, (ii) finance, (iii) organization and operations, (iv) network and cooperation, and (v) personnel. Here again, one could argue that the categories are not clearly distinguishable from each another: although cooperation, for example, is part of category (iv) network and cooperation, but it has also a strategic dimension. And using the above example once more: would assistance in hiring management fall under the category strategy, network and cooperation or personnel according to Brinkrolf (2002)? Criticism of the Status Quo of Value Added Research By reading the results of existing studies the inadequate knowledge of value added becomes obvious. Thus there is not even a clear definition of what value added actually is. In the literature one can often read of value added as active management support from venture capital investment management. The European Private Equity and Venture Capital Association (ECVA) uses a broader definition describing value added as a private equity management team s exceptional experience, know-how or valuable business contacts which constitute a vital input for the growth of investee companies. This means in other words that value added could also evolve through non-active support such as image transfer from investor to entrepreneur / venture (number 30 on the above list of value adding activities). In this case the simple existence of a venture capital investor creates value added. In this study the active and passive value adding approach is supported by proposing of the following definition of value added:

17 Value added in the context of venture capital financing evolves through non-monetary advantages or services given by investors to entrepreneurs of investee companies which have the aim of increasing the value of the companies. However, another problem arises when one analyses the list of 33 value adding activities. This list has 13 items more than the frequently cited list of 20 value adding activities from MacMillan et al. (1988). And yet one has the feeling from reading through it that it is incomplete and that there may be well more activities or functions of venture capital investors that can be regarded as value added according to above definition. And finally, concerning the question how value added is actually created, we know very little. Some researchers (e.g. Feear et al. 1990; Sapienza 1992; Rosenstein et al. 1993) stress the role of supervisory committees in which investors have a seat, i.e. the formal influence of investors usually guaranteed by law or contract. Regarding the amount and role of informal influence of investors very little is known. Yet without filling in the gaps in our all knowledge one of the most important questions cannot be addressed properly: how can the value adding process be improved or impaired? In other words: what factors influence the quality of the value added provided. In order to answer this question one needs to know more about the entire value adding process in the context of a venture capital transaction. METHODOLOGY The analysis of the theoretical background and methodologies used in the existing value added literature leads to two conclusions: (i) the studies are often not theory based but mainly descriptive, and (ii) the methodology used was generally a quantitative one (e.g. MacMillan et al. 1988; Rosenstein et al. 1989, 1993; Gorman & Sahlman 1989; Freear et al. 1990; Fredriksen et al. 1990, 1991; Landström 1991; Ehrlich et al. 1994; Elango et al. 1995; Sapienza et al. 1996; Barney et al. 1996; Busenitz et al. 1997; Fried et al. 1998; Schefczyk & Gerpott 1998; EVCA 2002, 2005; Busenitz et al. 2004). This lack of emphasis on a theoretical framework and the focus on only one sort of methodology leads to noticeable difficulties: only actually given and therefore quantifiable contents and contexts are accessible to and taken into account by researchers. Latent structures like common sense and hidden i.e. not directly ac-

18 cessible information are excluded as sources for empirical analysis and verification (see: Yin 1988; Lamnek 1993:9). The intention of this work is to try to understand the value adding process in the context of a venture capital financing instead of simply describing it. In order to achieve a structured and theory based research result, the following qualitative methodology was used. The starting point of this research was 20 interviews conducted with 19 entrepreneurs and venture capital experts in Austria, Germany and Switzerland. These interviews were tape recorded and organized in a semi structured way using an interview guide 5 prepared beforehand. The basis of this interview guide was a three dimensional frame of reference, which had the aim, first, of structuring the existing knowledge (e.g. the results of the literature analysis) and, secondly, of delivering a framework where new knowledge (i.e. that gained from the earlier interviews) could be filed in. The frame of reference had to be flexible enough to change with the addition of new knowledge incorporated after each interview. In order to make sure that no information would be overlooked because of the amount of data, a complete evaluation was performed after the first three interviews with venture capital experts. This evaluation was performed again after the first six interviews with entrepreneurs and after the following ten interviews with entrepreneurs. At each stage the frame of reference was verified to determine whether still valid or not. An additional interview was performed with the interviewee who gave information that contradicted that provided by other interviewees. This was necessary since the evaluation of the first six interviews with entrepreneurs gave results deviating from the results of the interview with one of the venture capital experts. In order to increase the level of intersubjectivity of the results of this study a very challenging aim in a qualitative study an additional external expert was consulted. This expert had experience both in venture capital and in qualitative scientific analysis. He assessed the general outline of the empirical part of this study, the inter- 5 This interview guide was a result of an extensive preparation as part of a doctoral thesis with a broader and more complex research question than that of the present study (Boué 2005). With other words the results presented in this study do cover only a small amount of all results achieved within the mentioned thesis. The description of the methodological and theoretical work is therefore cut down to a necessary level.

19 view guide and, on a basis of random samples, the information gathered in the interviews and the conclusions drawn from them during the evaluation process. This step was performed twice the first time after the first six interviews with entrepreneurs and the second time after the following ten. The interviewees were selected as follows. As we already mentioned the venture capital industry can be distinguished in terms of its value adding activities between industial sector (communication, computer, medicine / health / biotechnology, and production of industrial and consumer goods), investment stage (early versus expansion stage) and investor (independent versus corporate venture capital). This distinction entails an analytical (i.e. not a statistical) clustering. In each of the three clusters one venture capital expert had to be interviewed, i.e. one with profound expertise in venture capital in different industrial sectors, one with a corresponding expertise in the two investment stages, and one with extensive experience in both independent and corporate venture capital. The entrepreneurs interviewed fulfilled similar conditions: each of them had to have a venture in one of the above-mentioned industries; they were all looking for (formal) independent or corporate venture capital (no business angel investments were considered), and their ventures were all at an early stage or stage of expansion (no divestment stages were accepted). The results of the interviews was a set of hypotheses and several models that explain the value adding process of a venture capital investor. RESULTS Content of Value Added It transpired that neither the various categorizations of value added found in the literature, nor existing lists of value adding activities, meet the requirements for providing a clear, concise, and complete description of the phenomenon of value added. To start with the latter, that is to say current lists of value adding activities, even those summarized in the analysis of the literature (see chapter state of the art), cannot claim to be complete. It is therefore probable that value adding activities of interest for an entrepreneur or a venture may be overlooked in certain situation.

20 A similar point may be made with respect to the categorizations of value adding activities. These categorizations often overlap and tend to be either too broad, and therefore of limited practical use, or to equate the significance of categories of different meta-levels, e.g. strategic value added versus personnel value added. The findings of this study show that value added by venture capital investors can have both a strategic and an operational dimension. Some value adding activities have a far reaching and long term influence on the overall business activities of the venture, i.e. they are strategic in nature. Examples of such value added include consultancy services concerning the closure of a non profitable business line or an expansion of business activities to another country. On the other hand, their value can be very operational, as would be the case with book keeping services for a start-up company or help in recruiting a secretary. These strategic and operational value adding activities can in principle affect all different functional business divisions. Examples are shown in Table 4 Table 4 Operational and strategic value added content Division Human Resources Extent Financing / Taxes / Controlling / Accounting Marketing / PR / Sales Technology / R&D Procurement Operational Hiring and integration of general staff, negotiating salary of staff Budgeting, investment calculation, liquidity management Provision of sales channels, pricing Help choosing suppliers Strategic Hiring of key staff, negotiation (technical & management) Contacts to further financing sources Analysis of strategic business units, information on market development Information of technical developments, contact to technology partner Contact to potential suppliers Organisation Definition of principles of: Organisation of structure - Corporate structure Process organization Definition of processes - Corporate governance Management / Business Development Internationalisation (how), IPO / exit (how), M&A (how) Internationalisation (where / when), IPO / Exit (who / where / when), M&A (who/ when), corporate goals The nature of the value added that is expected and in fact provided varies according to the kind of investor involved (independent versus corporate venture capi-

21 tal), the given investment stage (early versus expansion stage), and the industry sector of the venture. One result of the empirical part of the study is that the existing knowledge and expertise of the entrepreneur in the industrial sector concerned play a special role. Of course entrepreneurial expertise in the other two clusters (namely kind of investor and investment stage) also influences the need for value added. But this influence seems to be less than in case of the industrial sector of the venture. Nevertheless, it is interesting to note that not all value adding activities offered are actually regarded as helpful. As will be shown later, depending on the expertise of an entrepreneur, some potential value added activity could actually lead to a complete refusal of the whole financing instrument of venture capital. This is because entrepreneurs, who have adequate expertise, contacts, etc. might feel observed or kept on a string by an investor when he / she insists on adding value through operational actions in fields where the entrepreneur sees no need for it and may even resent the intrusion. This again confirms the need for an appropriate, tailor-made package of value adding activities. In case of value added, one size does not fit all! Examples of value added that depends on the kind of investor and the investment stage are shown in table 5. Value added and kind of investor. Entrepreneurs regard value added by independent and corporate venture capital companies as essentially different. In case of a corporate venture capital investor this heterogeneity is based on its special contact to a corporate parent and its special technological know-how and market or industry specific knowledge. This specific knowledge results from a (forced) specialization on certain areas in order to reach a so called strategic fit between the investment projects of the investor and the corporate parent. Even though independent venture capital companies may have a similar know how due to a strong focus on certain industrial sectors, entrepreneurs usually, and perhaps understandably, do not see it that way. For entrepreneurs, corporate venture capital companies generally have a higher degree of competence concerning specific industrial sectors than independent venture capital investors. Independent venture capital companies are supposed to have their strength in non-technological business functions. In particular, their independence from external instructions is regarded as highly positive.

22 Table 5 Value added and kind of investor / investment stage Division Human Resources Investor / Stage Financing / Taxes / Controlling / Accounting IVC* Recruitment Establishment of controlling system Marketing / PR / Sales Technology / R&D Procurement Organisation Organisation of structure Process organization Management / Business Development Help with establishment (dependent on stage too). Internationalisation (how), IPO/ exit (how), M&A (how) CVC** Recruitment technical staff Finding of crucial suppliers Operational Early stage Budgeting, Investment calculation Marketing- / salesplan, conduction of PR-Strategy Expansion stage Strategic IVC* CVC** Early stage Expansion stage Cooperations (e.g. portfolio companies) Help choosing suppliers Help with establishment *) IVC = Independent Venture Capital; **) CVC = Corporate Venture Capital Opening of sales channels, CRM Internationalisation (with corporate parent) Internationalisation (how), IPO / exit (how), M&A (how) Consulting Opening of sales channels, CRM to corporate parent R&D cooperaton with corporate parent Corporate parent as preferred supplier Cooperation (e.g. portfolio companies) Internationalisation (where / when), IPO/ exit (who/ where/ when), M&A (who / when) Cooperation (e.g. portfolio companies) Tracing of technology development Internationalisation (where / when), IPO/ exit (who/ where/ when), M&A (who / when)

23 Summing up, these results are as follows: Value added provided by corporate venture capital companies is regarded as primarily product related, whereas the value added by independent venture capital companies is seen as oriented towards the venture and its development (see Figure 2). Corporate venture capital Product related value added Value added in functional business departments: Technology / R&D Marketing / Sales Independent venture capital Venture related value added Human Resources Finance Organisation Business Development / Management Figure 2 Value added of corporate versus independent venture capital companies Value added and investment stage. The empirical part of this study found some general patterns among entrepreneurs of ventures in their early stage compared with ventures in the stage of expansion. In early stage ventures the weight attached to operational value added is higher than in the stage of expansion. This is in line with results produced by Timmons & Bygrave (1986), Landström (1991:87), Elango et al. (1995), Sapienza et al. (1996) and Hellmann & Puri (2002) who all established, that the importance of hands-on management, which in this context is a synonym for operational value added, vanishes with the ongoing development of the venture. Furthermore, it is rational behaviour for entrepreneurs to ask for and accept help at an early stage of the company s development since it is in this crucial stage that the foundation for success or failure of a venture is set (Szyperski & Nathusius 1999). It therefore seems to be certain that the requirements with respect to value added change during the life cycle of a venture (Klandt 2003). In expansion stages the role of operational value added diminishes. This result confirms a study by EVCA (2002:14), which found that investors care less (in terms of time per venture) for portfolio companies in their expansion stage than for those in

24 their early stage. Nevertheless there are value adding activities by investors during the later stages. In a period of expansion the value added focuses on internationalization, exit related topics and general management tasks. An even greater role is played by value added such as contacts to key accounts, sales channels and cooperation partners. Value added and industrial sector. The results of this study show that there is no sector-specific need for value added. In other words, there is no link between the industrial sector of the enterprise and the requirements in terms of quantity or quality of value added. However, there is a typical need for value added depending on the dynamics of particular industrial sectors. These variable dynamics can cover both technological aspects and market development. Highly dynamic industrial sectors usually generate more need for value added than those with a lower dynamic. Value added in this respect would be an access to the investor s networks (market and industry as well as technology e.g. via portfolio companies or corporate parents of corporate venture capital companies). This is regarded by the entrepreneurs as especially important since the market decides faster and faster whether a technical innovation becomes a success or a failure. In the case of a (technologically) less dynamic industrial sector the speed of investment commitment from the investor seems to be of greater interest than any value added. The reason for this is that low-tech business models are easy to imitate, making it crucial for the success of the venture to enter the market as soon as possible. Another important determinant of value added is the already mentioned expertise of entrepreneurs in the sector concerned. Experienced entrepreneurs tend to refuse value added since this is often regarded as interference and exceeds the ordinary (and accepted) monitoring and controlling of stakes by the investor. In such cases only selective value adding activities are welcomed, depending on the dynamics of the sector. Figure 3 shows the connection between the dynamics of the industrial sector and the expertise of the entrepreneur. The need for value added increases from the lower left down to the upper right side in the direction of the arrow. These results are ceteris paribus to the already presented results, which suggest that the set of necessary value adding activities must be seen in the context of other characteristics, including the kind of investor or the investment stage.

25 Expertise in industry sector low high high operative & strategic value added + financing per se Dynamic of industry sector operative & strategic value added, networks, technological cooperation ++ selective activities, rather strategic + low ++ = strong meaning of value added; + = value added is important but not crucial; = value added is not necessary Figure 3 Value added and expertise / dynamics of industry sector Value Added Hierarchy As already mentioned, not all value adding activities are equally important for a venture. According to the results of this study entrepreneurs regard depending on their specific situation value adding activities as differing in importance. A fourrank hierarchical order of value adding activities could be identified (Figure 4). The width of the bar in Figure 4 show the importance of the value added activity for the entrepreneur: the broader the bar, the more important the activity. The trophy-form of this figure could be explained by the absolute character of types 1 (prerequisite) and 4 (refusal of financing): Without receiving the value added represented by type 1 an entrepreneur would probably not even consider venture capital as an appropriate financing option, especially where the entrepreneur would be in a position to choose a preferred source of financing. A similar absolute viewpoint is represented in type 4: In such cases entrepreneurs have strong reservations about the existence of a value adding activity and would probably refuse venture capital as well. To label the kind of support refused as value adding is explained from the perspective of the investor: not everything the entrepreneur regards as unnecessary and perhaps disturbing must also be bad for the venture. Sometimes investors know better and the pressure on the entrepreneur to accept a non-monetary service may result in an improvement of the venture s performance.

26 Types 2 (key expectation) and 3 (nice-to-have) in Figure 4 is situated are located between the above two extremes and correlate positively with the investment decision of entrepreneurs: in other words, the existence of value added represented by types 2 and 3 is an argument in favour of venture capital financing. The key expectations (type 2) are not conditio sine qua non like type 1, but still play an important role in the successful development of the venture. The nice-to-have value added (type 3), is less important than type 2 but still of significant interest to the entrepreneur. Evaluation / perception of value added by entrepreneurs positive negative Prerequisite Key expectation Nice-to-have Refusal Importance of value added for investment decision of entrepreneurs Figure 4 Value added hierarchy Value Added Implementation Altogether eight different vehicles or methods of transferring or transporting value added into a venture could be identified, five of them through active effort of the investor and three without any effort at all. In the latter cases it was sufficient that the investors simply made their investments, i.e. they took a passive role in the transfer of the value added: Table 6 Value adding vehicles Active value adding vehicles Monitoring / Controlling Advice Information Networking / Contacts Coaching / Motivation / Sparring Passive value adding vehicles Risk reduction Planning certainty Branding / Provision of positive image

27 These vehicles especially the active ones have been identified in plenty of studies dealing with the relationship between the venture capital investor and the entrepreneur (e.g. MacMillan et al. 1988; Ehrlich et al. 1994; Sapienza et al. 1996; Fredriksen 1991, 1992, 1997; Rosenstein et al. 1989, 1993). But usually they are regarded not as a method for implementation of an investor s value added but as a form of value added itself. The present author does do not share this view. Since the aim of this work is to deliver a clear and concise picture of the value adding process it is important to distinguish between value added on the one hand and the means or mechanism by which value added is created on the other. Glancing at the definition of value added as presented above, it will become clear that e.g. a network cannot be regarded as value added per se. The value added of a network will not be constituted until a specific contact is actually used in a manner that increases the value of the venture. Networks are only vehicles to allocate value added. The corresponding counts for the other active vehicles: Monitoring / Controlling. Venture capital investors supervise their investments through regularly controlling and monitoring. Entrepreneurs know an expect this and adapt accordingly or are forced to do so by their investors. Regular monitoring and periodic controlling may cause entrepreneurs a lot of work, but on the other hand they also lead to more professional work. This is so since entrepreneurial management needs the information obtained from proper controlling in order to back up its decisions. The implementation of a reporting system at a comparably early stage of a company s development results a great improvement in the quality of management and an increase in efficiency, thereby creating value added. Advice. The classical way to create value added is for a venture capital investor to advise entrepreneurs or provide them or their employees with guidance. Almost all studies in the field of value added from venture capital companies view advising entrepreneurs as a key to the creation of value added. This is due to the special role of management in the development of a company (Gorman & Salman 1989, Brüderl et al. 1992). The advice can cover all functional areas or departments of a venture and is especially important for young or inexperienced entrepreneurs. More mature entrepreneurs may also profit from the wide experience of investors who may have been associated with and shaped several venture establishments before.

28 Information. Providing advisory services to entrepreneurs goes hand in hand with giving them support in the form of information. The difference between the two is that advice is aimed at solving a potential or concrete problem in the venture, while the provision of information is merely the starting point for management decisions. Information of relevance will usually concern the development of markets, industry sectors or technology. It can be of a general nature that the benefits of the information might not be completely realized at the time of receiving it, even if it is already potentially recognizable. Networking / Contacts. Some of the terms most often mentioned in the context of value added are those of network and contacts, which in the present context mean that the entrepreneur expects to obtain access to the investor s established network(s) of useful business contacts. These networks and contacts differ from investor to investor and may be more or less extensive, and more or less useful, to the entrepreneur. The ones most often mentioned during the course of this study were: potential customers and suppliers, further or alternative venture capital investors, portfolio companies, holders of technological knowledge, sales channels, key personnel (especially technology / R&D and management), press / media and general contacts to consultants, etc. Where the investor is a corporate venture capital company, the most important contacts it could facilitate were those to different departments of the corporate parent, such as marketing / sales, technology / R&D and especially the corporate parent as a potential key account. Value added gained through networks and contacts can therefore add value in all functional departments of a venture. Coaching / Motivation / Sparring. During the interviews these terms were used synonymously to describe value adding activities that were focused on the entrepreneur as an individual. Sparring is derived from the sport of boxing. Transferred to the business world, sparring means besides coaching the supervision, training and education of a manager or, as in our case, an entrepreneur. The aim of sparring is to allow the entrepreneur to become skilled at solving motivational, leadership and organisational problems, as well as personal difficulties and crises. This vehicle is perhaps the closest to a pure value added activity of all. However, since the recipient of coaching is the entrepreneur and not the venture itself, we have placed it among the vehicles by which value is added to the enterprise.

29 Table 7 shows examples of value added that can be transported into various areas of the venture by means of the above-mentioned active value adding vehicles. Coaching / Motivation / Sparring is not included, however, since this vehicle affects the person of the entrepreneur rather than the venture itself. Table 7 Active value adding vehicles Active Vehicle Division Monitoring/ Controlling Advice Information Networking/ Contacts Human Resources Motivation of Staff Advice (A) on recruiting staff Information (I) on potentially available management staff Search for staff in general Financing/ Taxes/ Controlling/ Accounting Quality improvement (QI) of processing and instruments used A on finance and investment decisions I on recent financing rounds of competitors Contacts (C) with further financing sources Marketing/ PR/ Sales QI through monitoring of marketing activities A on decisions concerning marketing strategies I on marketing strategies of competitors C with sales channels Technology/ R&D QI and enhancement of efficiency (EE) through monitoring of R&D activities A on definition of R&D strategy I on technology based firms in recent deal flow C with technological know how in portfolio companies Procurement EE through monitoring of purchasing processes A on choice of suppliers I on business practices of potential suppliers C with suppliers Organisation QI and EE through monitoring of internal processes and structures A on definition of structure and/ or processes I on process design in portfolio companies C with consultants Management/ Business Development QI and EE through monitoring of processes and structures A on internationalisation and expansion projects I on international market conditions C with investment bankers Passive value added vehicles result in value added not through any active actions on the part of the investor; instead, they are an inherent consequence of the investment itself: Risk reduction. Entrepreneurs regard the willingness of venture capital investors to share in the entrepreneurial risk as value added. In contrast to a loan, venture capital not only finances the venture but also reduces the private financial risk of the entrepreneur. In case of a financing by loan, an entrepreneur is usually personally liable to some extend for the loan. In case of self-financing or ploughback financing,

30 they also risk the capital they invest in the venture. Risk reduction addresses the entrepreneur in the first place and not the venture. But the value of the venture will not increase before the entrepreneur implements some actions, such as putting an idea for a product into practice, or establishing a new business in the first place. And this decision will probably be influenced significantly by the reduction or spreading of the entrepreneurial risk or a rise of planning certainty (see following) through the involvement of a venture capital investor. Planning certainty. Entrepreneurs regard the planning certainty brought about by a venture capital financing as superior to that from other forms of financing. This certainty flows firstly from the fact that the venture capital investor is committed to pay the agreed investment sum (perhaps depending on the achievement of previously defined milestones). Secondly, the entrepreneur assumes that the investor will assume respectively for any necessary follow-up financing rounds, as this would be in their own interest. In other words, an entrepreneur regards the involvement of a venture capital investor as a guarantee of stable and long-term funding, with which planning can be undertaken with a given amount of certitude. Needless to say that this certainty can be deceiving since an investor could easily decide not to follow through with the apparent commitment. Branding / Provision of positive image. A venture capital investor helps to increase the trust of consumers, clients and other business partners in a venture. Since an investor will review an investment project very thoroughly before deciding to invest in, the investment acts as a certificate of quality for the company concerned. Stakeholders in the venture (customers, suppliers, employees, bankers etc.) be made aware of the relationship with the venture capitalist, e.g. by marketing or public relations activities. A necessary prerequisite for this form of passive value added would be for the venture capital investor to have a positive reputation or useful image. Summary The results of this explorative study deliver an overview of the value adding process of venture capital investors. This complex process can be subdivided into three interrelated parts: (i) value added contents, (ii) value added hierarchy, and (iii) value added implementation. This division offers further researchers a structured

31 framework for value added that would enable them to focus their research on one single aspect or even part thereof. Value added can be effective in all functional divisions of a company and can include both operative and strategic dimensions. It is influenced by factors resulting out from (i) the situation of the venture, i.e. the kind of investor involved, the investment stage, and dynamic of the industrial sector. Furthermore, it is affected by the (ii) person of the entrepreneur and especially his / her prior expertise and experience which results in the evaluation and individual ranking of value adding activities in terms of their importance. It is possible to distinguish between more and less useful value adding activities, and those that the entrepreneur may or may not wish to receive. Value added is transported into the venture by using so-called value added vehicles. In this study eight different vehicles could be identified: five that require an active involvement of the investor and three that are passive consequences of the investment. Figure 5 offers a model of the value adding process described above. FURTHER RESEARCH RECOMMENDATIONS Existing research hardly touches on how value added is created, implemented, optimized and adapted to the needs of venture capital backed companies. There are only rudimentary studies that cover the question what kind of requirements a venture capital investor has to fulfil in order to create value added (e.g. Rosenstein 1988), or how the relationship between investor and entrepreneur influences the generation of value added (e.g. Sapienza & Timmons 1989a). Among others Zemke (1995:273:ff.) found that a venture capital engagement will only add value in an ideal case. Therefore, factors have still to be researched that have a direct influence on the efficiency of value added generation.

32 Value added content Value added hierarchy Value added implementation Investor Operative Strategic Human Resources Financing/ Taxes/ Controlling/ Accounting Marketing/ PR/ Sales Technology/ R&D Procurement Organisation (structure and processes) Management/ Business Development Knowledge of Entrepreneur Stage Dynamic of industry sector Prerequisite Key expectation Nice-tohave 4 Refusal I N V E S T O R Value added vehicles Active Monitoring / Controlling Advice Information Network/ Contacts Coaching / Motivation / Sparring Passive Risk reduction Planning certainty Positive branding E N T R E P R E N E U R V E N T U R E Figure 5 Model of the value adding process

33 Another topic in the value added context that has hardly been researched is its intercultural dimension. The results of Sapienza et al. (1996) show the relevance of this topic. The literature in this field is mostly written from an Anglo-American point of view, but these countries have the most mature venture capital markets of the world. Little research has so far been conducted on what value added venture capital companies provide in countries with less developed venture capital markets. Insight into this aspect of value adding would be of special interest for developing countries or countries in transition. Even though a comparison of research results between US and European markets has to be undertaken with caution, such comparative studies are becoming more and more important with the rising number of cross border investments. How do geographical distance, investment stage, language and other cultural factors influence the nature and extent of value added (see e.g. Sapienza et al. 1996:467)? Does having a non-local, i.e. venture capital investor abroad, support the internationalization process? These and other questions could lead to much fruitful research. It is suggested that the future of value added research has to be more theory based than in the past. The Agency Theory could be applied in reverse: venture capital investors could be researched rather as agents than as principals. Since they can be viewed as agents of entrepreneurs when it comes to the generation of value added. Another theory that deserves more attention in this context is the Network Approach, since there is a widely accepted agreement that networks operate as value adding vehicles of particular importance. Finally, concerning the methodology to be used, there is room for a greater emphasis on qualitative research. There are too few exploratory studies to identify and raise questions regarding the unknown aspects of the relationship between the venture capitalist and the entrepreneur. REFERENCES Barry B., Muscarella C.J., Peavy J.W. & Vetsuypens M.R. (1990) The role of venture capital in the creation of public companies. Evidence from the goingpublic process, in: Journal of Financial Economics, 27 / 2, pp Botazzi L. & da Rin M. (2002) Venture Capital in Europe and the Financing of Innovative Companies, in: Economic Policy, 17 / 1, pp

34 Boué, A.R. (2005) Der Einfluss von antizipiertem Value Added auf die Entscheidung zu Gunsten einer Venture Capital Finanzierung. Doctoral thesis, Vienna University of Economics and Business Administration. Brav A. & Gompers P.A. (1997) Myth or Reality? The Long-Run Underperformance of Initial Public Offerings: Evidence from Venture and Nonventure Capital-Backed Companies, in: The Journal of Finance, 52 / 5, pp Brinkrolf, A. (2002) Managementunterstützung durch Venture-Capital- Gesellschaften. Eine Untersuchung des nichtfinanziellen Beitrags von Venture-Capital-Gesellschaften bei der Entwicklung ihrer Portfoliounternehmen, doctoral thesis, University of St. Gallen, Deutscher Universitäts-Verlag, Wiesbaden. Brophy D.J. (1988) More than money? The performance of venture capital backed initial public offerings, summary in: Kirchoff B.A., Long W.A., McMullan W.Ed., Vesper K.H. & Wetzler W.E., Jr. (Eds.) Frontiers of Entrepreneurship Research Proceedings of the eighth Annual Babson College Entrepreneurship Research Conference, Babson Park, pp Brüderl J., Preisendörfer P. & Ziegler R. (1992) Survival Changes of Newly Founded Business Organizations, in: American Sociological Review, 57 / 2, pp Bürgel O., Fier A., Licht G. & Murray G. (2000) Internationalisation of Hightech Start-ups and Fast Growth Evidence for UK and Germany, Discussion Paper No , ZEW, Mannheim. Busenitz L.W., Moesel D.D. & Fiet J.O. (1997) The impact of post-funding involvement by venture capitalists on long-term performance outcomes, in: Reynolds P.D., Bygrave W.D., Gartner W.B., Carter N.M., Mason C.M., Davidsson P. & McDougall P.P. (Eds.) Frontiers of Entrepreneurship Research Proceedings of the seventeenth Annual Babson College Entrepreneurship Research Conference, Babson Park, MA, pp Byers B.H. (1988) Relationship between Venture Capitalist and Entrepreneur, in: Guide to European Venture Capital Sources, Venture Economics (Eds.), London. Cable D.M. & Shane S. (1997). A Prisoner's Dilemma Approach to Entrepreneur- Venture Capitalist Relationships, in: Academy of Management Review, 22 / 1, pp Churchill W.C. & Lewis V.L. (1983) The five stages of small business growth; in: Harvard Business Review, 61, pp Deakins D., Mileham P. & O Neill E. (1999) Do external directors and / or mentors add value?, Summary in: Reynolds P.D., Bygrave W.D., Meyer G.D., Manigart S., Sapienza H.J., Mason C.M., & Shaver K.G. (Eds.) Frontiers of Entrepreneurship Research Proceedings of the Nineteenth Annual Babson College Entrepreneurship Research Conference, Babson Park, MA, p. 349.

35 Ehrlich S.B., De Noble A.F., Moore T. & Weaver R.R. (1994) After the cash arrives: A comparative study of venture capital and private investor involvement in entrepreneurial firms, in: Journal of Business Venturing, 9, pp Elango B., Fried V.H., Hisrich R.D. & Polonchek A. (1995) How venture capital firms differ, in: Journal of Business Venturing, 10, pp Engel D. (2002) The Impact of Venture Capital on Firm Growth: An Empirical Investigation, Discussion Paper No , ZEW, Mannheim. Engel D. (2003) Zur Rolle von Venture Capital für das Wachstum junger Unternehmen, in: Steinle C. & Schumann K. (Eds.) Gründung von Technologieunternehmen, Gabler, Wiesbaden. Engel R. & Hofacker K. (2001) Mehrwertschaffung durch Beteiligungskapitalgeber im Lebenszyklus des finanzierten Unternehmens, in: Finanzbetrieb, 3 / 3, pp EVCA (1996) The Economic Impact of Private Equity in Europe, European Private Equity & Venture Capital Association, Zaventem. EVCA (2002) Survey of the Economic and Social Impact of Venture Capital in Europe, European Private Equity & Venture Capital Association, Zaventem. EVCA (2003) Corporate Venturing European Activity Report 2002, European Private Equity & Venture Capital Association, Zaventem. EVCA (2004) Yearbook Annual Survey of Pan-European Private Equity & Venture Capital Activity, European Private Equity & Venture Capital Association, Zaventem. EVCA (2005) Employment Contribution of Private Equity and Venture Capital in Europe. Zwantem, Belgium. Fath C. (2002) Business-Angels-Finanzierungen ein Literaturüberblick, in: Journal für Betriebswirtschaft, 52, pp Fath C. (2005) Added Values durch Business Angels, in: Zeitschrift für KMU und Entrepreneurship, 4, pp Flynn D. (1991) The critical relationship between venture capitalists and entrepreneurs: planning, decision-making and control, in: Small Business Economics, 5 / 3, pp Fredriksen O. & Isaksson A. (2000) Venture Capitalist s Governance Behavior: Do they differ between Portfolio Companies, and why? Präsentiert auf der 19. Babson College Entrepreneurship Research Conference, June Fredriksen O. & Klofsten M. (2001) Venture Capitalists Governance of their Portfolio Companies, in: Journal of Enterprising Culture, 9 / 2, pp Fredriksen O. (1997) Venture Capital Firms Relationship and Cooperation with Entrepreneurial Companies, Thesis Nr. 625, Department of Management and Economics, Linköping University.

36 Fredriksen O., Klofsten M., Landström H., Olofsson C. & Wahlbin C. (1990) Entrepreneur-Venture Capitalist relations: The entrepreneurs views, in: Churchill N.C., Bygrave W.D., Hornaday J.A., Muzyka D.F., Vesper K.H. & Wetzel W.E. Jr. (Eds.) Frontiers of Entrepreneurship Research Proceedings of the Tenth Annual Babson College Entrepreneurship Research Conference, Babson Park, MA, pp Fredriksen O., Olofsson C. & Wahlbin C. (1991) The role of venture capital in the development of portfolio firms, in: Churchill N.C., Bygrave W.D., Covin J.G., Sexton D.L., Slevin D.P., Vesper K.H. & Wetzel W.E. Jr. (Eds.) Frontiers of Entrepreneurship Research Proceedings of the Eleventh Annual Babson College Entrepreneurship Research Conference, Babson Park, MA, pp Fredriksen O., Olofsson C. & Wahlbin C. (1992) Why don t venture capitalists add value? Do they?, Summary in: Churchill N.C., Birley S., Bygrave W.D., Muzyka D.F., Wahlbin C. & Wetzel W.E. Jr. (Eds.) Frontiers of Entrepreneurship Research Proceedings of the Twelfth Annual Babson College Entrepreneurship Research Conference, Babson Park, MA, pp Fredriksen O., Olofsson C. & Wahlbin C. (1997) Are venture capitalists firefighters a study of the influence and impact of venture capital firms, in: Technovation, 17 / 9, pp Freear J., Sohl J.A. & Wetzel W.E. Jr. (1990) Raising venture capital: Entrepreneurs views of the process, in: Churchill N.C., Bygrave W.D., Hornaday J.A., Muzyka D.F., Vesper K.H. & Wetzel W.E. Jr. (Eds.) Frontiers of Entrepreneurship Research Proceedings of the Tenth Annual Babson College Entrepreneurship Research Conference, Babson Park, pp Gomez-Mejia L., Balkin D. & Welbourne T. (1990) Influence of venture capitalists on hig tech management, in: The Journal of High Technology Management Research, 1 / 1, pp Hellmann T. & Puri M. (2002) Venture Capital and the Professionalization of Start- Up Firms: Empirical Evidence, in: The Journal of Finance, 57 / 1, pp Higashide H. & Birley S. (2000) Value Created through the socially complex relationship between the venture capitalist and the entrepreneurial team, in: Frontiers of Entrepreneurship Research Proceedings of the Babson College Entrepreneurship Research Conference, Babson Park. Jain B.A. & Kini O. (1995) Venture Capitalist Participation and the Post-issue Operating Performance of IPO Firms, in: Managerial and Decision Economics, 16, pp Klandt H. (2003) Unternehmensphasen und ihre erfolgreiche Gestaltung, in: Steinle C. & Schumann K. (Eds.) Gründung von Technologieunternehmen, Gabler, Wiesbaden, pp Kulicke M. & Wupperfeld U. (1996) Beteiligungskapital für junge Technologieunternehmen; Ergebnisse eines Modellversuchs; Projektbegleitung zum Modellversuch Beteiligungskapital für junge Technologieunterneh-

37 men (BJTU). Schriftenreihe des Fraunhofer-Instituts für Systemtechnik und Innovationsforschung Vol. 22, Physica, Heidelberg. Lamnek S. (1993a) Qualitative Sozialforschung, Vol. 1: Methodologie, Psychologie- Verl.- Union, Weinheim. Landström H. (1991) Erfolgreiche Zusammenarbeit zwischen Risikokapitalgebern und Kleinbetrieben, in: Internationales Gewerbearchiv, 2, pp Leitinger R., Strohbach H., Schöfer P. & Hummel M. (2000) Venture Capital und Börsegänge Von der Produktidee zum internationalen Nischenspezialisten, Manz, Vienna. Lerner J. (1994) Venture Capitalists and the decision to go public, in: Journal of Financial Economics, 35 / 3, pp Lerner J. (1999) The Government as Venture Capitalist, in: Journal of Business, 72 / 3, pp MacMillan I.C., Kulow D.M & Khoylian R. (1988) Venture capitalist involvement in their investments: extent and performance, in: Journal of Business Venturing, 4, pp Parhankangas A. & Landström H. (2004) Responses to psychological contract violations in the venture capitalist-entrepreneur relationship: an exploratory study, in: Venture Capital, 6 / 4, pp Rosenstein J. (1988) The board and strategy: venture capital and high technology, in: Journal of Business Venturing, 3, pp Rosenstein J., Bruno A.V., Bygrave W.D. & Taylor N.T. (1989) Do venture capitalists on boards of portfolio companies add value besides money? In: Brockhaus R.H. Sr., Churchill N.C., Katz J.A., Kirchhoff B.A., Vesper K.H. & Wetzel W.E. Jr. (Eds.) Frontiers of Entrepreneurship Research Proceedings of the ninth Annual Babson College Entrepreneurship Research Conference, Babson Park, MA, pp Rosenstein J., Bruno A.V., Bygrave W.D. & Taylor N.T. (1990) How much do CEOs Value the advice of venture capitalists on their boards? In: Churchill N.C., Bygrave W.D., Hornaday J.A., Muzyka D.F., Vesper K.H. & Wetzel W.E. Jr. (Eds.) Frontiers of Entrepreneurship Research Proceedings of the Tenth Annual Babson College Entrepreneurship Research Conference, Babson Park, MA, pp Rosenstein J., Bruno A.V., Bygrave W.D. & Taylor N.T. (1993) The CEO, venture capitalists, and the board, in: Journal of Business Venturing, 8, pp Sapienza H.J. & Timmons J.A. (1989a) Launching and building entrepreneurial companies: do the venture capitalists add value? In: Brockhaus R.H. Sr., Churchill N.C., Katz J.A., Kirchhoff B.A., Vesper K.H. & Wetzel W.E. Jr. (Eds.) Frontiers of Entrepreneurship Research Proceedings of the ninth Annual Babson College Entrepreneurship Research Conference, Babson Park, MA, pp

38 Sapienza H.J. & Timmons J.A. (1989b) The roles of venture capitalists in new ventures: what determines their importance? In: Academy of Management Best Papers Proceedings, pp Sapienza H.J. (1992) When do venture capitalists add value? In: Journal of Business Venturing, 7, pp Sapienza H.J., Manigart S. & Vermeir W. (1996) Venture Capitalist Governance and Value Added in Four Countries, in: Journal of Business Venturing, 11, pp Schefczyk M. & Gerpott T.J. (1998) Beratungsunterstützung von Portfoliounternehmen durch deutsche Venture Capital-Gesellschaften, in: Zeitschrift für Betriebswirtschaft, Ergänzungsheft 2 / 98, pp Schefczyk M. (2000) Erfolgsstrategien deutscher Venture-Capital-Gesellschaften, Schäffer- Poeschel, Stuttgart. Schröder C. (1992) Strategien und Management von Beteiligungsgesellschaften: Ein Einblick in Organisationsstrukturen und Entscheidungsprozesse von institutionellen Eigenkapitalinvestoren, Nomos, Baden-Baden. Smith G. & Parhankangas A. (2000) Conflict Management in the entrepreneurventure capitalist relationship: an international comparative study, Working Paper Helsinki University of Technology, Institute of Strategy and International Business. Stedler H. (1987) Venture Capital und geregelter Freiverkehr; doctoral thesis, University of Hohenheim; Frankfurt / Main. Szyperski N. & Nathusius K. (1999) Probleme der Unternehmensgründung: eine betriebswirtschaftliche Analyse unternehmerischer Startbedingungen, Josef Eul, Cologne. Timmons J.A. & Bygrave W.D. (1986) Venture Capital s role in financing innovation for economic growth, in: Journal of Business Venturing, 1, pp Wang C.K., Wang K. & Lu Q. (2002) Effects of venture capitalists participation in listed companies, in: Journal of Banking and Finance, not published. Wupperfeld U. (1996) Management und Rahmenbedingungen von Beteiligungsgesellschaften auf dem deutschen Seed-Capital Markt, Lang, Frankfurt / Main. Yin, R.K. (1988) Case Study Research. Design and Methods. Sage Publications, Newbury Park, USA. Zemke I. (1995) Die Unternehmensverfassung von Beteiligungskapital-Gesellschaften - Analyse des institutionellen Designs deutscher Venture Capital- Gesellschaften, Deutscher Universitäts Verlag, Wiesbaden.